Monday, June 27, 2011

Know the 6 Steps in Cost/Benefit Analysis

We all know we should make an investment when the benefits outweigh the costs, but few people understand what really goes into the analysis. Here are the six steps:
1. Understand the cost of status quo. You need this to measure the relative merit of an investment against the "do nothing" option.
2. Identify costs. Consider up-front costs as well as any in future years.
3. Identify benefits. Ascertain what additional revenue will come in from the investment.
4. Determine the cost savings. What can you stop doing if you make this investment?
5. Create a timeline for expected costs and revenue. Map out when the costs and benefits will occur and how much they will be.
6. Evaluate non-quantifiable benefits and costs. Assess whether there are intangible benefits such as strengthening your firm's position with distributors, or costs such as creating unnecessary complexity.

Source: "Guide to Finance Basics for Managers."

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